Correction? What correction?

Do the rallies of the last few days mean the correction is over? Look to China for more clues.

By Jim J. Jubak Feb 17, 2010 4:48PM

Jim JubakSo, that's all ya got?

If the much-feared correction is over, then investors are still waiting for the kind of 10% correction that normally punctuates a rally.

From the Jan. 19 peak close at 1150.23 to what is so far the bottom at 1056.74 at the close on Feb. 8, the Standard & Poor's 500 index was down just 8.13%.

And as of 1 p.m. Eastern time on Wednesday, the index is up 4% from that February bottom.

Looking at the action at the end of January and into early February, I thought there was a good chance that the rally would finally suffer a 10% correction -- and if that happened, it would be a good thing. 

Rallies need to have corrections to wring out excessive enthusiasm and to bring in new money from the sidelines as investors go bargain hunting. My Jan. 28 post will give you more details on why I thought that.

Now there's some chance that the rallies of the last few days are related to an absence of news from China because of the week-long Lunar New Year holiday that began on Monday. With China's financial markets closed, there's no worrying news on a potential slowdown in China's economic growth.

So, I'm not willing to call this correction over until China's financial markets have been back in business for a week or so. If the return of news flow from China hasn't sent prices back to where they were on Feb. 8, then I think this correction is probably over. (For more on why the Lunar New Year holiday is so important this year, see this post.)

And it will have ended short of that 10% pain level for the same reason that all the other corrections in the bull market that began in March 2009 have petered out after just a 4% to 5% drop: There's still an awful lot of money on the sidelines that missed out on the 70% rally off the March bottom and is just waiting for a dip to buy in. 

The more times that dip is just 5% instead of 10%, the more investors will say “Buy” after a 5% drop, figuring that's all they're going to get in the way of an opportunity.

That sets a limit to how bad a correction will be.

On the other hand, if you can remember back just a few days to how nervous everybody was when the S&P 500 was down just 8%, you'll recognize just how jittery investors are.

I'd call bullish sentiment a mile wide but an inch deep.

If the market continues to go up when China's markets reopen, investors should start asking themselves a new question: Is this a resumption of the March rally or just a bounce?

I've never said 2010 was going to be easy. (See my post “How to worry -- and when -- in 2010”).

At the time of this writing, Jim Jubak did not own shares of any company mentioned in this post. 

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